The Euro-Area or Back in the Ozone...Again?

The Euro-Area slowdown is portrayed clearly in the chart of industrial production Yr/Yr growth rates by sector as well as by the sequential growth rates from 12-months an in by sector as well as across EU/EMU nations. Three strikes and you’re out?

Little strength in evidence - In October Germany, Ireland, and Portugal show sizeable gains in output but in each case the gain is on the heels of a large decline the month before. Over three-months only Ireland and Portugal show positive rates of growth for IP. Over six months only the EMU’s Ireland and Germany show expansions in IP; the EU’s UK also shows a small and withering rise. Over 12-months Germany, France, Ireland and Portugal still show Yr/Yr gains along with the EU’s UK (barely).

Sequential growth trends - Trends in MFG output are lower, decaying from 2.4% growth over 12-months to -2.7% over six months to -4% over three-months all expressed at annual rates. Across countries decaying trends or trends to clearly deep negative rates of growth predominate but Ireland and Portugal are surprising exceptions with accelerations in train, especially for Ireland.

Growth in the new quarter -In the quarter to date (Oct/Q3 average) the annualized growth rates stand at a negative 6.6% for the Zone as a whole with Germany France Italy Spain and Greece showing even larger drops on this same basis. Ireland has a strong advance in place for the new quarter while Portugal and the UK each have declines on the order of four percent in play. There is very little in the way of good news there.

EMU output by sector shows weakness dominates - As to sectors, consumer goods output is making a small increase in its three-month rate of growth on the strength of nondurables output. Intermediate goods and capital goods have seen their sequential growth rates transition into negative rates of growth over the recent three-months.

Assessing prospects in the Zone
Kind words from the IMF: an assessment or discrete agnosticism? The Euro-Area remains under pressure. And even the IMF’s chief economist has said that the euro-Zone plan is not a complete one-at least not yet (my addition). At the same time he says he sees progress. And whether that is an institutional statement of support and encouragement or it an honest positive opinion we do not know. Still, it is too early to say if this real progress or not. We continue to hear of businesses that are planning for a euro split and that can’t be good for current business. The stories below the headlines are stories that describe how money and wealth are scampering out of weak nations to try to find some sort of safe haven where the currencies are likely to remain stronger… if there is a split

Ignoring bad news does not fix the problem: didn’t before; won’t now - This is a sensible response by businesses and investors but it will disrupt economic activity in the Zone all the more. The biggest problem in the zone now is the huge competitiveness gap that the Zone allowed to fester into being. While the Euro authorities seem to have no conception of how important it is to fix this flaw, increasingly businesses and investors seem to ‘get it.’ As they ponder the possible solution they see more and more risk. It was a big red flag every month as Greece, Spain Portugal and Italy –as well as others- posted inflation rates that were above that of Germany and a small cohort of other low-zone inflation rate countries. The zone now has a problem and it won’t face up to it. It wants to stay together but to do so would condemn its southern European members to chronic deflation (debtors’ prison!) for more years than they ever could bear it. The Zone does not wish to break up, yet a break up and devaluation could restore competitiveness where it was lost faster than any other way. Not talked about at all is the possibility of having a Zone-wide fiscal linkup to finance a capital spending plan to boost productivity (thereby boosting competitiveness) where it has been destroyed the most. There are no zone wide solutions only local problems that threaten zone-wide cohesion. Can’t they see that such a thing must be fixed?

Real work and good architecture can make it so, not wishes - The Japanese lunch box solution will not work. Fiscal problems needed REAL fiscal solutions. But the EMU has no overarching fiscal authority so there can be no Zone-wide investment to make the lame walk and the blind see. Fiscal ‘coordination’ is limited to the Zone’s new Japanese lunch-box style fiscal policy which tries to contain externalities not to spread them with state by state fiscal constraints. This actually is rather stupid in a zone where some nations are so very in need of improving their capital stock and productivity. Indeed, many of the real problems are cross-cultural and require some cross border compromises. In the end this Zone plan fails on a different technical ground than before but for the same general reason as it did the first time. I my view the kindly aspect of the IMF’s comments are meant to be ‘not damaging’ much more than they reflect any true optimism. Europe needs to make some really big really hard decisions to save its union or as much of it as it can. These decisions will put to the test Europe’s desire to have unity. Wishing does not make it so

Lesson learned from Euro-Area.01 - The real lesson learned in Euro-Area 1.0 is that compromise will fail. The Zone needs to sit down and scrawl out a document that says what each member state must be willing to do and how the Zone will deal with shared benefits and problems then commit to that. That will require fiscal sharing. It is hard to see a true workable solution without that element especially if the ECB is to remain independent- It also needs to fix or to establish how the competitiveness divide will be conquered instead of ignored and left to fester and to rot the Zone from within, as is now happening. This is what all the capital flight is about. Once it does that it can let each member state choose if it will be a member state in a new more solid zone or not. Patch-working the current Zone does not seem likely to get the zone where it needs to go.

Politics CANNOT trump economics - This advice while harsh to some is the best that there is. Compromise fails when you are trying to put a true system together. Political compromise can kill the goose that would lay the golden egg. It is like building the hull of a ship. Someone must design it. It must ‘work’ whatever the design, and there are so many designs to choose from. Yet some design elements are incompatible. Put the wrong ones together and you have weaker hull. Any weak spot sinks the whole ship. It is not like a Japanese lunch box in which certain undesirable things can be kept in their ‘place’ and ignored. This is the lesson not yet learned or learned only by some and rejected by the rest. Europe has to realize the simplest of all lessons: that an economic union is an economic union. And if it is not a real union then it cannot function as one. Europe needs to embrace or to let go. And not all countries are suitable for an embrace without a lot of fixing. Shaking hands does not make you a friend, but refusing to do so can make enemies. Europe needs to go far beyond simple hand shaking. Is it up to it?

‘Euro-Area’ Yes! ‘Euro-Area,’ no! - Perhaps I can put is more simply. Europe needs to be the Euro-Area not the Euro-Area. While it is my convention I have allows referred to this union as the Euro-Area. The lower case ‘e’ refers to the ‘euro.’ This zone is ‘the Zone of the euro’ not ‘the zone of Europe.’ This Zone needs to transition to being the ‘Zone of Europe’. A common currency is not enough to keep it together. It needs to have more unity than that. And that is, in the end, the biggest lesson of all.